MADRID (Reuters) - Spain's governing Socialist Party won
Sunday's election but fell short of the absolute majority that
might have helped them act more quickly to cushion an economic
slowdown.

"I will govern for all people, thinking first of those who
have nothing," Prime Minister Jose Luis Rodriguez Zapatero told
thousands of supporters cheering and waving red flags outside
the Socialist headquarters.

With 96 percent of votes counted, the Socialists were
projected to win 169 seats in the 350-seat lower house, up five
from the previous legislature.

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The conservative Popular Party (PP) won 153 seats, also up
five from 2004, when voters turned against them after they
rushed to blame the Basque separatists of ETA for election-eve
train bombings that turned out to be the work of Islamists.

The night's big losers were small left-wing parties.

"We're the political party that gained more seats than any
other in Spain, in votes and in percentage," PP leader Mariano
Rajoy told supporters.

The economic slowdown and a sharp rise in unemployment
dominated the election campaign until Friday, when a former
Socialist councilor was shot at point-blank range in the Basque
Country. Both main parties blamed ETA.

Zapatero, 47, started his victory speech remembering the
five deaths attributed to ETA since it ended a ceasefire in
December 2006 after he had made peace overtures.

"We feel the absence of all victims of terrorism. They live
on in our memory," said Zapatero, who has ruled out negotiating
with ETA in his second term.

Zapatero has won popularity with liberals around Europe
over the last four years by pushing through social policies
such as legalizing gay marriage. But his next term will pitted
with more serious problems as Spain's economic boom comes to a
sudden end.

In the last nine months, 300,000 people have joined the
jobless queues, most of them from the construction sector.

Several analysts have cut their 2008 growth forecasts to
about 2 percent after 3.8 percent growth last year and some
worry that things could get worse if property companies start
defaulting on their huge piles of debt.

SMALL PARTY POWER

How quickly and firmly Zapatero can deal with the slowdown
will depend on what alliances he strikes with smaller parties,
which often demand regional policies that rile the rest of
Spain in exchange for their support.

Political analysts expected the Socialists to do a deal
with the Catalan party Convergencia i Unio (CiU), which has
sided with Zapatero's minority government in many votes over
the last four years. CiU was projected to win 10 seats on
Sunday.

"What I expect now is an emergency fiscal package which is
probably going to be announced very soon," said Gilles Moec, an
economist at Bank of America.

"Of course, the fact that the Socialists are not apparently
going to have an absolute majority probably makes it a little
bit complicated."

Nicolas Lopez, an analyst at Spanish brokerage M&G, said
the election result was not a surprise and that the stock
market would now look to see what steps the new government
would take to mitigate the economic slowdown, and when.

"I imagine the emergency plan will be to assign a part of
the budget surplus to reinvigorate the construction sector and
invest in infrastructure to offset the fall in residential
construction," he said.